Chaos In The Currency Markets : Currency Crisis Of The EMS

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of fixed
exchange rate regimes?

From European currency crisis of September 1992, it shows us that there
are weakness of the fixed exchange rate system. When exchange rate are tied, a
high interest rate in one country has a strong influence on interest rates in
the other countries. Funds will flow to the country with a more attractive
interest rate, which reduces the supply of fund in the other countries and
places upward pressure on their interest rates. The flow of fund would continue
until the interest rate differential has been eliminated or reduced. This
process would not necessarily apply to countries outside ERM that do not in the
fixed exchange rate system, because the exchange rate risk may discourage the
flow of funds to the countries with relatively high interest rate. However,
since the ERM requires central banks to maintain the exchange rates between
currencies within specified boundaries, investors moving funds among the
participating European countries are less ...

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